4 Strategies for Increasing Roth Funds in a Self-Directed Solo 401(k)

Aside from contributing to a Self-Directed Solo 401(k) with pre-tax dollars, Roth and Voluntary After-Tax contributions can also be made. These options open the door for up to $57,000 or $63,500 (depending on age) for 2020 to be contributed/converted to a Roth account.

Here are 4 ways to maximize the accumulation of tax-free money in retirement.

1 - Salary deferral only

The person can choose to contribute his or her salary deferral portion directly to the designated Roth account and then put the profit-sharing contribution into the pre-tax account. This might be a good compromise to enjoy some tax deferral benefits now while still creating a pool of tax-free money available in retirement.

2 - Salary deferral and profit-sharing

For people who aren’t particularly concerned about tax-savings through deferral today and want to increase their tax-free money in retirement as much as possible, they could make Roth salary deferral contributions along with the pre-tax profit-sharing contributions. They would then convert the profit-sharing contribution to the Roth account and pay the tax on it. They can then invest all of the funds through their Roth account so that the basis, income, and gain will all be tax-free upon withdrawal.

3 - Pre-tax salary deferral and profit-sharing, plus voluntary after-tax

Contributing after-tax dollars is also a way to maximize, and reach, the contribution limit amount of $57,000, or $63,500, since it can be made in addition to the salary deferral and profit-sharing contributions. For example, if the person can only contribute $35,000 pre-tax, instead of the full $57,000 amount allowed (assuming he or she is less than 50 years old) due to income restrictions, he or she can add $22,000 of voluntary after-tax dollars to reach the limit, and then convert the after-tax money to the Roth account. This, again, might be a compromise to have both tax deferral today and tax-free money later.

4 - Voluntary after-tax only

If the person wants to fully maximize the amount of tax-free money available in retirement, he or she can contribute the full annual limit (assuming they have the income level to cover it) as a voluntary after-tax contribution and then convert it to the Roth account.

An unencumbered advantage

When contributing to traditional group 401(k) retirement plans, making after-tax contributions can be tricky, capped, or disallowed due to nondiscrimination testing. Since Self-Directed Solo 401(k) plans are designed for one-person business owners (including spouse and business partners), and do not include employee-participants, they are not subject to ERISA rules and testing requirements. This keeps the contribution amount uncapped (but within the annual limit), making it one of the most advantageous ways to save and have access to a considerable amount of tax-free money in retirement. For any eligible person who wants to maximize his or her after-tax contribution options and amounts, while having direct control over a diversified and personalized investment portfolio, this plan checks off more boxes than any other employer-sponsored or individual plan.